LET’S TALK BITCOINEpisode 88 – Gox, Gox, Gox, Gox, Gox, Gox, Gox

Participants:

Adam B. Levine (AL) – HostStephanie Murphy (SM) – Co-hostBarry Silbert (BS) – CEO of SecondMarketRon Gross (RG) - Executive Director of the Mastercoin FoundationMark Jeftovic (MJ) – CEO of EasyDNSTrace Mayer (TM) – Entrepreneur and Bitcoin investorJoel Dietz (JD) – CEO of Evergreen payment system

Today is March 1st 2014 and this is Episode 88.

This program is intended for informational and educational purposes only. Cryptocurrency is a new science so do your homework before putting money on the line.

Welcome to Let’s Talk Bitcoin, a twice weekly show about the ideas, people and projects building the digital economy and the future of money. Visit our website at www.letstalkbitcoin.com for all our past episodes, frequent, original and varied perspectives and, of course, our Bitcoin addresses where donations are appreciated. [0:31]

AL: My name is Adam B. Levine and today, it’s all about Gox. This last week saw foundational member of the Bitcoin infrastructure crumble and fall and what looks like certain bankruptcy and a year’s long recovery. We won’t know what’s really going on until the folks in Japan open up but everybody’s got an opinion on it and that’s where we begin today. [0:54]

Eric Voorhees is a beacon in the world of Bitcoin philosophy and one of the most outspoken community advocates. We kickoff today’s show with Stephanie Murphy’s reading of Eric Voorhees’ letter entitled ‘Some words for my friends’

Then Bloomberg News is concerned about the repercussions of Gox on the community, the currency and the momentum we’ve built over the last few years. Recently they interviewed Barry Silbert, founder of Second Market and progenitor of what claims to be the first Wall Street-backed Bitcoin exchange

Throughout this episode, we’ll hear from members of the community, including Mastercoin director Ron Gross and legal mind Trace Mayer, EasyDNS CEO Mark Jeftovic and Ethereum evangelist Joel Dietz. We even here a bit from funny man Jon Stewart on the right way to break the laws of financial institutions

We end today’s show with a collaborative piece, both in its writing and in today’s performance, as we explore the ‘Ghost in the Machine at MtGox’, with portions of an IRC log re-enacted by the newly formed LTB players

First, why bother building towers when they sometimes fall down. Eric Voorhees explains [2:04]

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Eric Voorhees letter ‘Some words for my friends’, read by Stephanie Murphy

SM: ‘Some words for my friends’ – written by Eric Voorhees, read by Stephanie Murphy.

Hello friends

MtGox is gone so let’s prepare ourselves. On Tuesday, and for the rest of the week, all hell will break loose in the media. It will be blamed on MtGox, it will be blamed on Bitcoin, it will be blamed on the ‘bug’ and it will, more than anything, be blamed on the lack of regulation. Pundits and experts of all types will weigh in on the calamity. It will be world news in a matter of hours. Get ready because it will be an ugly week. [2:54]

For all of you who lost money – my heart goes out to you. Some people lost a little, some lost a fortune. It will make people sick and depressed and full of grief. Personally, I had over 550 bitcoins in Gox. I will never get any of that back. If misery loves company, then we’ll be enjoying a grand feast today. I should have known better, of course. I take responsibility for leaving those funds with an entity that had proven incompetence repeatedly. I chose to ignore even my own warnings for nothing more than the sake of convenience. [3:33]

Gox is still at fault, to be sure but I have learned the lesson. I hope it is not such an expensive lesson for others and, for all you observers, please take a moment to consider it as well. Be mindful, however, that the wrong lessons are not learned for that would be the true tragedy indeed. Let me suggest that the lesson is not that Bitcoin is broken. Bitcoin is fine. Similarly, the lesson is not that security is impossible. Those who know what they are doing can achieve it and help others to do so. The lesson is not that nobody can be trusted. There are countless good men and women in this community who are worthy of trust and some of the very best people I’ve ever met. Finally, the lesson is not that we ought to seek out regulation to save us from the evils and incompetence of man, for the regulators are men too and wield the very same evil and incompetence only enshrined in an authority from which it can wreak amplified and far more insidious destruction. Let us not retreat from our rising platform only to cower back underneath the deranged machinations of Leviathan. [4:48]

The proper lesson, if I may suggest is this: We are building a new financial order and those of us building it, investing in it and growing it will pay the price of bringing it to the world.

This is the harsh truth. We are building the channels, the bridges and the towers of tomorrow’s finance and we put ourselves at risk in doing so. We are at risk from accidents. We are at risk from fraud, from corruption and from evil. We are at risk from journalists seeking headlines and from politicians seeking power and glory. We are at risk from the very market we are trying to build – a market which cares not about our portfolio, our ambitions or our delicate sympathies. For all these risks, devastation will befall us repeatedly. Some of us will be discouraged. Some will be ridiculed and insulted. Some will be tricked or swindled. Some of us will be crushed or caged. We will be set upon by all manner of antagonists, repeatedly, for a long time. [5:59]

So why do we do it? Why do we build these towers that fall down upon us? Why do we toil and strain and risk our precious time which is the only real wealth we possess? Because the world needs what we’re building. It needs it desperately. If that matters to you, as it does to me, then hold to that thought. You’ll see through the smoke and your wounds will heal. So, shake it off brothers, for this won’t be the last calamity endured before the win. Tonight, my heart is with you all. Tomorrow, my head is down, my eyes are open and I am building toward peace and freedom. [6:50]

Eric Voorhees

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Bloomberg News

Male news reporter (MN): Bitcoin is in need of damage control, yet again. US prosecutors are investigating possible criminal violations by Tokyo-based Bitcoin exchange MtGox. This, after Gox went offline earlier this week, without returning about $400m worth of clients’ funds. MtGox CEO, Mark Karpeles tried to quell the masses this morning, publishing on the site – I would like to reassure everyone that I’m still in Japan and working very hard to find a solution to our recent issues – but no word on where that $400m is, which probably, a lot of people would like to know.

Female news reporter (FN): (?? Especially) ...

MN: Exactly, right. [7:42]

FN: You have one dollar. [7:43]

MN: I don’t know where the $400m is but Bitcoin does have a lot of size investors betting on its future. Venture capitalists like Marc Andreessen, Fred Wilson, the Winklevoss twins (I don’t know what size they are – I guess they’re very tall) [7:56]

FN: They’re tall. [7:57]

MN: Tim Draper, a lot of big names but maybe the most important, the CEO of Second Market Barry Silbert is planning on launching the first ever American Bitcoin exchange. That’s maybe just what Bitcoin needs for legitimacy and Barry joins us now. First of all, thanks for coming in. [8:12]

BS: Good to see you. [8:13]

MN: Secondly, I thought it was interesting the timing of your announcement, you’re going to start your own Bitcoin exchange right when MtGox takes its tweets offline and shuts down its website and Mark Karpeles buys an ounce of weed and hides in his apartment. Who knows what he’s doing in there, right? [8:31]

BS: It was not entirely coincidental. We were planning on making this effort public probably next week but when we started hearing the rumors, we decided why not try to counter-balance this storm that we saw coming. [8:44]

MN: The bad news or some good news? [8:46]

FN: So, how’s it going to work? [8:46]

BS: We’re setting it up in, actually, a very interesting way. We’re actually looking at the New York Stock Exchange model as the model where you have a bunch of member firms, all regulated, who tap into this one exchange and we’re doing it in really close collaboration with a number of banks and the regulators as well. [9:02]

FN: OK, so this is what’s interesting because this is what I said to you earlier. You need to have some regulation in this market in order for people to trust it. You made the point, and you may make it again... [9:11]

MN: Well, I’m not a huge fan... of regulation. {9:12]

FN: ...that Bitcoin... part of its appeal is the fact that it’s not regulated. How can you have a currency that’s not regulated, especially when it could be victim to situations like we’ve seen with MtGox? [9:24]

MN: My question is how much of the currency itself... you can’t really regulate it. Someone told me this morning - they should shut it down. Well, how? Turn off the internet? They would regulate, obviously, the businesses that touch the currency, like your exchange. [9:35]

BS: Yeah. [9:36]

FN: Wouldn’t you feel better? I would feel better if I were investing in Bitcoin to know that you were working with banks that were regulated by a government entity. [9:44]

BS: Two key activities that I think need to be regulated. One is the exchanges, so if you’re buying or selling Bitcoin and then, any companies that hold customer funds, like a bank, you

should be regulated. I don’t think merchants who accept Bitcoin should be regulated, miners, merchant processors – none of them should be regulated but the banks of Bitcoin and the exchanges. [10:02]

MN: The interesting thing here is that you have started an exchange before that had a lot of critics of a completely kind of a new asset class to be traded on the exchange and you were very successful with SecondMarket... [10:15]

BS: Yeah and we did it in a regulated way. If you work with the regulators in a very transparent... [10:20]

MN: ...but with a fight first, right? When you first said – we’re going to start trading pre-IPO shares of Facebook, I think I recall Facebook not being totally cool with that to begin with. [10:30]

BS: Oh no. What I think... you could describe it as a fight but it was really the industry trying to come to terms with the idea that an IPO is not the only and best way to get liquidity but, over time, what’s actually happened is, it’s become very, very common for all these tech companies to use SecondMarket to provide liquidity for their stakeholders and so, in this new exchange business, we decided up front, let’s work with the Bitcoin industry, let’s work with the banks and let’s involve the regulators on day one of the creation of this exchange. [10:57]

FN: This, you think, theoretically solves that liquidity issue, right? Because it’s tough, right? If you want to take your Bitcoin out, MtGox aside, it’s challenging. [11:09]

BS: Two big issues that this is going to solve for. Number one is you have a very fragmented exchanged business and so if you actually want to sell a large amount of Bitcoin or buy a lot of Bitcoin, you’re going to move the market. [11:18]

MN: I buy and sell Bitcoin down on 40 Broad Street, right? With a bunch of guys that are buying and selling Bitcoin. [11:24]

BS: Well, you’re big money and so when you start dropping the million dollars on Bitcoin, you’ll move the market and so it solves that problem because it brings all liquidity into one exchange (??) [11:32]

FN: Does it do anything to solve volatility? [11:33]

BS: It does because, actually, the way that we’re going to do this is we’re looking at the gold market and we want to slow down the price discovery process and maybe run, really, just a once or twice a day auction where the spot price gets set and then it doesn’t change for another day. The whole idea is to slow down the inter-day volatility so that means when you go to buy a cup of coffee, the price of the cup of coffee is not 5% higher or lower depending on the exact minute that you got to the coffee shop. [11:55]

FN: Barry, does it have to be Bitcoin? Could you not do this with some other cryptocurrency? [11:59]

BS: We’ll set this up in a way where any digital currency... if the members of the exchange want to make a market at it, they could be on the exchange. Honestly, I think Bitcoin is the winner and the focus, really at least at the outset, is going to be focusing on Bitcoin to dollar exchanging. [12:14]

MN: You will be able to trade other digital currencies. Will you be able to trade Bitcoin in and out of yen and euro? [12:20]

BS: Again, as a member-based exchange, the members decide. All the regulated entities... [12:25]

MN: A lot like the Bitcoin protocol to begin with, right? It’s kind of a democratic process? [12:29]

BS: Try to be, try to be. [12:30]

FN: What’s the appeal here? Why do you need Bitcoin, if you could use PayPal or some other mobile payment system? [12:36]

BS: I think Bitcoin is, potentially, going to transform the way that money moves round the world, the way that people think about money and people talk about the remittance business being disrupted, people talk about the payments space being disrupted and I, personally, think that Bitcoin is becoming a fantastic alternative to gold. There is a lot of interest in Bitcoin as a store of value because it has a lot of the attributes of gold. What it has that gold doesn’t, is it actually has utility. You can now go buy, as you know, beer. You could go buy a house. [13:04]

MN: I spent two weeks only spending Bitcoin, so I didn’t use dollars for two weeks. It wasn’t incredibly easy and I didn’t pay rent and phone bills and stuff. [13:10]

FN: You did buy me some pizza though. [13:11]

MN: I bought the whole office pizza. I bought Tom Keene some Genesee Cream Ale in cans. [13:16]

BS: It’s becoming... 50,000 merchants... [13:19]

MN: I bought a plane ticket. [13:20]

BS: Right. [13:21]

MN: I bought video games at GameStop. I bought stuff at Whole Foods. You can buy Victoria’s Secret stuff with Bitcoin if you were so inclined. [13:30]

BS: What the banks are telling us is they now think that digital currency is not going away. Regulators feel the same way and that banks understand that exchanging money for digital currency and vice versa is a service that they’re going to have to provide for their customers. [13:43]

MN: I think it’s also key to think about some payments that we don’t consider today, like machine to machine payments which you’re going to have to deal with, at some point, as more and more things become automated. Think about driverless cars filling up at people less gas stations. [13:55]

FN: What’s interesting here is that now people like yourself are coming out and saying – We would embrace some regulation here. [14:02]

BS: Of course. Absolutely. Regulation done properly is not bad and the only way that Bitcoin will be successful is if the Bitcoin industry works with the existing financial space and the only way to do that is in a regulated way. [14:14]

MN: By the way, Senator Joe Manchin from West Virginia came out and called for, sort of, a crackdown on Bitcoin in the letter that he wrote to regulators, including Janet Yellen. You don’t always think of Democrats from West Virginia as the economic giants of our society but he’s a very smart man, an honorable man I’m sure. What do you think about his comments? [14:36]

BS: From what I read, it’s similar to what Senator Schumer said a few years ago and I think if you read Senator Schumer’s recent comments, he’s come to appreciate the possibility of Bitcoin. Senator Carper, as well, has come out very positive about the possibilities for Bitcoin, again, if there’s proper regulations in place. [14:53]

FN: What’s it do to Western Union in the long run? [14:55]

BS: Western Union is going to have to incorporate Bitcoin into the business. Actually, I would hope that Western Union would be one of the founding members of this exchange. We want to see the Western Unions, we want to see the PayPals, the banks and the Bitcoin companies. [15:06]

FN: You’re going to reduce their margins though. [15:07]

BS: It’s going to happen either way. It’s going to happen either way. [15:10]

MN: Also, you could see for example, transaction costs go down so transactions rise. Listen, we could talk about it all day, especially I. [15:18]

FN: I know. [15:18]

MN: I could talk about it all day. Thanks for coming in, I really appreciate it Barry. [15:21]

FN: Alright, good stuff. [15:22]

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AL: Now, we hear from Ron Gross, Executive Director of the Mastercoin Foundation. [15:37]

RG: We’ve pretty much grown accustomed to all these kinds of things happening in the Bitcoin space and Gox wasn’t the first to lose users’ funds and it was Gox specifically... we’ve pretty much seen the writing on the wall for some time now. Me, personally, and everyone at the Mastercoin team are very sorry for the users who lost their funds. Bitcoin, as the saying goes, with great power comes great responsibility. People need to learn to be responsible for their money and really keep it, either with themselves or with reputable companies. MtGox has obviously shown itself, for the last year, to not be such a company. Protocols like Mastercoin, really integrate and solve a problem that is very embedded in this unregulated space that’s providing services that don’t require any trust from third parties. [16:34]

There are tradeoffs and there will always be a need, in our view, for centralized exchanges that can provide high frequency trading, they can provide some better integration with multiple... for different purpose but as we keep getting reminded, there is a need for some other complimentary players here or complimentary protocols here, maybe for trading larger blocks without any trust in the system. We’re seeing all of this as pieces of one singular whole and we’re happy to really believe in that revolution. I don’t know if it’s the right time to plug this but we have the wallets coming online. We have a few of them up at www.Mastercoinwallets.org and we’ll be happy if anyone checks that out. There are bounties out there for people to come and test that and play with the wallets. We’re hoping to see, in 2014, the Bitcoin community and eco-system continue to mature and grow and just learn, all of us, from this experience and just be better and lead together. [17:45]

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MJ: I’m Mark Jeftovic and I’m the CEO of EasyDNS and the webmaster of www.wealth.net. The MtGox implosion could be the ultimate triumph of unregulated free markets. Yes, you heard that correctly. How could the destruction of the single largest Bitcoin economy be good for Bitcoin and good for free markets? How can a market value of anywhere between 20-30% of the dollar value of the entire Bitcoin economy going up in smoke, prove finally, beyond a shadow of a doubt, that purely free markets, unregulated from government intervention are superior in all ways to government regulated, centrally planned economies? Our starting point, because people will go here almost immediately is the utterly baseless assertion that, had only Bitcoin been regulated, this sort of thing would have never happened. We know this is false because financial panics, scandals and meltdowns occur with alarmingly increasing frequency amongst the government regulated equities, bonds, currencies and derivatives markets; some of these markets being the most regulated in the world. [20:08]

Over $7 trillion of wealth vaporized during the global financial crisis of 2008/09 and the policy response to that was to create an almost identical textbook setup for yet another crisis using sovereign debt for interest rate markets which could hit any time. When will Paul Krugman unveil a template for the Bitcoin bailout? I’m just kidding, of course. One of the Twitter search suggestions for Bitcoin is ‘Bitcoin bailout’ and most of those tweets are referring to the deal book article on the New York Times about no bailout for Bitcoin holders. Some of the snarkier, pro-regulatory fanboys are chiding – Don’t you wish you had a government regulating it now? Well, no I don’t. I’m glad there’s no government regulation of Bitcoin. I hope there continues not to be. When I railed at the policy response to the GFC in ’09, people asked me – But what’s the alternative? To which I replied that if all banks who were insolvent were allowed to fail, there would have been an enormous amount of pain for a short amount of time. I also went on to say that the shenanigans that created that mess, would never be attempted again for about 100 years. [21:22]

That is the reason you don’t want government regulations and bailouts. David Stockman came out in his book, ‘The Great Deformation’ and said pretty much the same thing. More importantly, what Stockman observes about financial meltdowns in general is that left to their own devices, they are largely contained to the participating stakeholders and they do not jeopardize the wider economy. Yes, there will be pain but then the failure will be liquidated into stronger hands. The people who got burnt will be wiser for it and life will go on. When you let things run their course, you force the responsibility onto the stakeholders to do their homework and keep their eyes open. MtGox had been flashing bright red warning signals for over a year. I can’t understand why anybody still had money in there but when everybody moves past this, we’re all going to hold our Bitcoin service providers to a higher level of accountability and transparency and that’s a good thing. This episode will not kill Bitcoin, unless, of course, the regulators step in and try to fix everything. [22:27]

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AL: Here’s something from funny man Jon Stewart. [22:40]

JS: (Laughter) (Applause) Wait! Wait! Wait! It started out as a place to trade magic cards. So did my basement. (Laughter) Does that mean my basement is now a currency exchange? (Laughter) How did this happen? It’s not like money that doesn’t really exist can just disappear, right? [22:59]

(Question/answer recording played regarding MtGox)

Q: Do you think there’s been fraud here? [23:00]

A: I think there’s a pretty strong likelihood of that. I think a lot of us have suspected that for quite some time and the fact that they’re not talking very openly about what’s going on. They deleted all the tweets from their Twitter account yesterday. [23:12]

JS: Ooooh! They deleted the tweets. That’ll solve it. (Laughter) Listen, Bitcoin exchange, you’ve got a lot to learn about being a financial player. You don’t just commit brazen fraud in one fell swoop. You institutionalize and normalize systemic fraud which brings us to our new segment ‘Show Me the Money!’ so I can take it and put it in a place where you can no longer find it. (Laughter) Check out how a professionally corrupt financial institution does business.

(News reports recordings on Bank Suisse and Goldman Sachs played – in italics)

Banking giant, Credit Suisse, helped thousands of wealthy Americans hide billions of dollars from the IRS overseas.

A wealthy customer hiding $250m in pantyhose, wrapped around her body. [23:50]

JS: (Laughter) ***** Swiss! Because you see, MtGox, your brazen Bitcoin fraud means that you will spend your days hunted down by every international high tech law enforcement agency known to man. Meanwhile, if you would have institutionalized your corruption, this would be the penalty you’d face. [24:07]

Credit Suisse’s management team regrets, very deeply, that despite the industry leading compliance measures we put in place, we had some Swiss-based private bankers who appear to have violated US law. [24:19]

JS: It turns out you did not want this money hidden from your tax laws. (Laughter) So, sorry. (Laughter) I have brought you multi-colored Swatches – Swatch for you, Swatch for you, so we’re good now. (Laughter) Once you get in and make yourself a cornerstone of the financial marketplace, there is no limit to what you may accomplish/perpetrate. [24:51]

First of all, how Goldman Sachs come to own uranium? [24:54]

(Laughter)

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TM: This is Trace Mayer, early seed round investor in both BitPay and the Armory wallet. I think a big takeaway that we can get from this whole MtGox debacle... and really, anybody who has been around Bitcoin a significant amount of time, they should have had either direct experience with things like this before or this is the first experience... but the big deal here is who holds the private keys to your money? If you don’t hold the private keys yourself, then that’s a big deal because you have to trust somebody else. Not only do we have exchange rate risk with Bitcoin, relative to the dollar, but we have performance risk, whether somebody will actually perform their contract. MtGox isn’t the first example of this where there has been a performance risk failure. There has been MyBitcoin years ago, there’s Bitcoinica, Sheep Market ran off with about $100m worth of Bitcoin and Silk Road 2 ran off with $2.7m worth of Bitcoin. [26:00]

When you’re trusting people with your private keys, that’s a big deal and that’s one of the reasons that I’ve funded the development of the Armory wallet was so that individuals could hold the private keys to their own bitcoins. I think that’s a very important thing. It’s not just in the Bitcoin community. With Bitcoin, we’re really creating a whole new form of property rights. Property rights that aren’t defined by legal code but property rights that are defined by mathematical code. For example, HSBC recently denied people the withdrawal of physical cash from their bank accounts. That’s an example where we see HSBC holding the private keys of the British pounds and the physical cash and somebody else holding the legal keys, or the ownership to those pounds but there is a difference in how they want those private keys administered. [26:54]

With this whole MtGox debacle, we’re really finding out that he who has the private keys, makes the rules because there is not really any recourse. If you sent your bitcoins over to MtGox and they lost them or they absconded with them, and there is really no way to tell whether they were legitimately hacked by some nefarious third party or whether they just absconded with the bitcoins themselves, there is no way to prove either way, then you trusted them with your private keys. There is going to be abuses of this trust and whether they’re regulated or not doesn’t really make a difference. Bernie Madoff, people entrusted him with billions and billions of dollars of assets and private keys and he ran off with it. This is not something new. I think what we have to do as a community, in order to move forward from this, is: One – take responsibility for our own private keys and use something like Armory etc. Two – we can build systems or processes into place where we can regulate ourselves much more efficiently. For example, exchanges could segregate customers’ bitcoins and then publish balances or something, depending on what would make the most sense there. [28:13]

Really, where we need to go is we need to build out systems where we just don’t have to trust anybody and that’s what I think the big vision of Satoshi is, is to decentralize trust as much as possible. Not having these central points of failure, like MtGox, where the US Feds can seize $5m of their customers’ funds, where MtGox can’t get hacked and lose their bitcoins or abscond with the bitcoins – where we just don’t have to trust. I think that building out the Bitcoin protocol more, in terms of multi-signature and escrow solutions etc is somewhere to go and also just putting on our big boy pants and putting our bitcoins in our Armory where we hold the private keys and we know that nobody else holds those private keys because really, you don’t hold or own any bitcoins unless you solely hold the private keys. That’s really kind of the message or statement I’d like to get out is – individuals taking that personal financial responsibility for the security of their own private keys to their wealth. [29:24]

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JD: I’m Joel Dietz and I’m CEO of Evergreen, www.Greenz.io. I’m very passionate about the Ethereum project and other improvements that are going on right now in the decentralized application layer. I think now that we’re seeing the fallout from Gox and these parties that

have not been particularly responsible with the funds they were entrusted with, it just reemphasizes the need, not necessarily for external regulation – I think there will be a lot of call for that obviously and that’s sort of the trap that’s being used by many companies like Coinbase and Circle. They’ve gone in and integrated very carefully with the existing banking system. I’m not opposed to that but I think that really, the ultimate growth and need in the market, at this moment, is for trust networks that really build in reputational systems that can validate things without the need for existing proxy services, including governments and the legal system. [31:54]

I think those things (?? get used to) to a certain point but the real growth and this is why the smart contract ability of Ethereum is so important and potentially revolutionary is that it allows people to have the complete freedom to design these systems from scratch and evolve them incrementally and experimentally. We’re already seeing in the Ethereum umbrella a lot of fascinating discussions of how to build a robust web of trust for the future that doesn’t force, necessarily... real name verification doesn’t force you to use your Facebook account but still allows a very high degree of trust within certain networks. I think that’s really the direction all the governance is moving in, in the sense that, in the past all government has essentially been opt-out. You’re forced into a particular political context, you’re born into a particular municipality, or locality, or ethnicity and you are associated with those people, by default and you don’t really necessarily have the option of disassociating or associating... this isn’t really, at this moment by any means, a replacement for that but you’re increasing this possibility by having this meta-layer that you build on top of existing infrastructure that provides an additional layer of services and can be more robust than the layer that’s below that. [33:20]

When you see all this corruption and things that have very obviously and clearly been happening in the mainstream banking system and, to a certain degree, also are polluting the Bitcoin system at this moment, there is just this incredible possibility of building something that is newer, better, more resilient and basically provides all the services you expect in a more efficient way. So much of this cost that people are paying right now on top of things, and this is dramatically clear in this case, are on top of this pollution that’s already in the system and you’re basically, either paying to clean up the pollution or you’re paying to keep it at bay, or all these sort of things. The better the system is that is designed to prevent that from entering in the first place, essentially, the more positive benefit there is to everyone who is doing business in the system. Additionally, I think there is a need both for centralized systems and decentralized systems. I don’t think there is one model that is the solution. I think the distributed nature of the blockchain is really the most resilient solution and I think that’s why it’s a solution that’s come along first because otherwise, as we’ve seen with past contenders who were trying to provide digital currencies, they were just shut down because they had a centralized point of failure and Bitcoin does not have that. That’s true of, basically, all of the cryptocurrencies that exist. They are vulnerable to certain things like a 51% but they are extraordinarily resilient compared to most centralized systems. [34:53]

At the same point, there are a lot of... when it comes to usability, ease of use and transfer mechanisms, there are a lot of cases where centralized systems, partially because they deal with large amounts of flow, can actually optimize and take, essentially, a small amount of resources through a large number of transactions and then use that to build infrastructure

and guarantee a certain experience on top of that infrastructure which you can’t get across a large body. I think we’re finding that, right now, even within the Bitcoin thing, which I personally find troubling largely because the... I don’t criticize the people... the heads of Kraken, and Circle, and Coinbase, and Bitstamp, and whatever, Bobby Lee from BTC China, for coming out and making this joint statement but it kind of has this eerie centralized... we are the top tier of the Bitcoin world and we are integrating with government. To me, it destroys a lot of the value that you see in something like Bitcoin where the distributed nature is really what gives it it’s strength and if you’re just saying – We are an organ of the government and we’re closely tied in with the existing infrastructure, then what is the point of using this at all. This is what some of these people really want it to be, I think, that they just want it to be a new PayPal that gives you a slight benefit, a slightly lower fee for transferring funds. [36:31]

I think the real potential for these networks is so much larger than that. I’m very, very excited about the second generation of the Bitcoin stuff and I really wish that it was here now. I wish that Mastercoin was fully released. I wish that ProtoShares, Nxt were farther along than they are and I really wish Ethereum had all the stuff fully ready to go because there are just so many things that you can do along this. It’s going to be experimental, like I said before, but we have that possibility right now of building that trust layer in a way that is totally opt-in, so it’s not forced. That’s one of the awesome things about it too is that, with something like Ethereum, it’s not like the protocol has a single version of this. It can have multiple competing versions of this. Obviously, there will be a network effect from the people that get stuff up and running more quickly and more robust early on and that can scale. You just don’t have that option right now and then you kind of have this fallout, the massive fallout that I think we’re going to have and it’s going to very severely impact the reputation of Bitcoin and the whole Bitcoin community and be a massive setback. I don’t know, fundamentally, I agree with the Eric Voorhees statement about that there is a natural process that when you build towers, some of them will fall over but I think there is also a need to chose stronger materials in the construction of those towers and maybe even appoint guardians to protect them so that you’re not liable when these sort of little floods... it’s sort of the whole classic – Do you build your castle on the sand or do you build it on something that has a strong foundation? Finding that sort of foundation to build it on so that it doesn’t become something that rises up to $10bn and then rushes out, is extraordinarily important for the long term viability of all of this stuff. Those are my thoughts and thank you. [38:29]

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AL: ‘The Ghost in the Machine at MtGox’ – originally published February 27th 2014, written by Adam B. Levine and Napoleon Cole, with assistance from Ben Davenport, Martin Harrigan, Charlie Shrem and the MtGox Statement IRC channel.

Disclaimer: This is a working theory and, as such, is highly speculative. While we present our findings to you for novelty and add this information to the community conversation, the only real truth in this situation can come from MtGox.

Yesterday, we published an alternative theory of where the coins went in the MtGox calamity but what if the coins weren’t really stolen at all. What if the perpetually bumbling exchange simply lost the keys and didn’t have the heart to tell anyone? This idea caught fire overnight and today, we pick up yesterday’s thread with a few more facts and a bunch more speculation inferred from it. This isn’t the first time embattled exchange MtGox has had solvency concerns levelled against it. In 2011, 424,242.42424242 coins were moved from an address under the exchange’s control to another address under the exchange’s control. This exercise is the digital equivalent of moving $100 from one pants’ pocket to the other, standing in front of a crowd. You proved you had control of the money without exposing it to any risk. In 2011, this served as an official proof of solvency and succeeded in quelling the concerns at the time. When analysed in today’s light, this same proof now raises more questions than it answers. Earlier this week, a leaked crisis strategy brief prepared by an outside firm for MtGox revealed the exchange had only 2,000 bitcoins in its spending or hot wallet with no cold or offline funds at all. After much analysis, consultation and consideration, we feel there is strong circumstantial evidence that MtGox should, in fact, currently control at least 90,000 bitcoins in two, yet unspent, accounts. Bitcoin’s nascent ‘blockchain forensic’ is a new science that is a literal ‘follow the money’ sort of operation. We begin our journey in June 2011, when concerns about Gox reach a head and CEO Mark Karpeles, MagicalTux, agreed to take action as a demonstration that he controlled a non-trivial amount of coins and so, was solvent. [40:50]

MtGox Statement IRC channel

<go1dfish> MagicalTux: 432109.87654321 is that pattern random, or was it chosen deliberately?

<go1dfish> by pattern, I mean the fact that it looks like a countdown

<sharkasgo> deliberate so it would be easy to search for

<MagicalTux> go1dfish: it's deliberate

<MagicalTux> want me to do it again? :)

<go1dfish> MagicalTux: yes, if you could send like a tiny amount to an address someone throws out

<go1dfish> that would do a huge amount to restore confidence

<MagicalTux> I broke out the 432109.87654321 already

<MagicalTux> but I'll make a new one

<UberCookies> I wonder if I've reclaimed my account correctly...

<xelister> do .424242

<MagicalTux> xelister: 424242.42424242 ?

<xelister> yeap

<go1dfish> just need to see a transaction happen from an account with a huge balance with an amount listed here to an address listed here

<MagicalTux> connecting the offline storage and decrypting on a firewalled system

<go1dfish> 1AbTRVrRYGri1sZvqHBadnXaCHkuXJtV5N

<MagicalTux> I'll make the transaction and push it manually

<notallhere> this would completely restore a lot of people’s faith

<go1dfish> MagicalTux: post an address and I'll send you an amount

<Ooofo> MagicalTux, to get the "free month of trading" thing, will that be automatically done based on rolled back trades or do we have to apply somehow?

<MagicalTux> Ooofo: it'll be automatic

<Ooofo> awesome

<MagicalTux> I got all the data of all the affected users here

<MagicalTux> go1dfish: no, not practical

<go1dfish> ok

<MagicalTux> go1dfish: I'll send 424242.42424242 bitcoins from a bunch of 50kBTC addresses (and maybe on 42kBTC) to one

<MagicalTux> well, two actually

<MagicalTux> one will get the 424k, the other one will get the change

<go1dfish> ok, yeah all transactions get split that way as I understand it

<MagicalTux> ready guys? Don't come after me claiming we have no coins after that

<MagicalTux> hopefully I'll be able to work without getting too much disturbed

<go1dfish> yeah, ready

<nanotube> MagicalTux: wasn't your last tx 432K btc? lost 8k?

<geist_> no

<geist_> thats just the amount someone suggested

<geist_> (the 424242)

<nanotube> ah

<MagicalTux> 42 is the answer

<go1dfish> to everything

<sixEch0> 42 is my password!

<noagendamarket> lol

<nanotube> hehe ic

<go1dfish> 42 is the solution to every block too

<mabus> wait what's going on, is he proving he has our bitcoins still?

<go1dfish> shit I just ruined the economy

<mabus> what does this help

<geist_> there’s a lot of people crying wolf saying Gox doesnt have their BTC anymore

<wumpus> don't send them to the bitcoin eater please :)

<go1dfish> mabus: tux is shuffling large numbers of bitcoins to show they are still under his control

<MagicalTux> anyway, going to send to 1eHhgW6vquBY... the 424242.42424242 BTC... Voila! [44:27]

And he did! On the blockchain we can see that this very unique transaction with a timestamp that corresponds almost exactly to the IRC conversation, which brings me to the timeline. [44:38]

The Timeline

2011-06-23 06:50:15

The 424,242.42424242 transaction: https://blockchain.info/tx/3a1b9e330d32fef1ee42f8e86420d2be978bbe0dc5862f17da9027cf9e11f8c4 is made.

MagicalTux (Mark Karpeles) makes the 424,000 transaction at approximately the same time, and on the same date as the IRC log is posted to pastebin. http://pastebin.com/d7vp06hL. At this point we believe that MtGox has control of the coins. [45:02]

2011-07-18 13:45:29

Three weeks later on July 18th, 2011 those same coins are part of a transaction that breaks them into two separate outputs. https://blockchain.info/tx/7a2a6f66e87ed4e72d85ba7a82eda1572605c3330c461e171f58d7ff2763ac63

The coins stay put in their respective addresses until late August, at which point they were spent in the same block. Subsequent transactions following both amounts eventually lead to a very large 550,000 BTC transaction that we’re about to talk about. At this point, we believe that MtGox still has control of the coins. [45:35]

2011-08-27 02:29:26

A series of transaction are made (largely part of the same block) to break up the two outputs from July 18th, 2011 into many addresses containing 50,000 BTC each.

These interconnected transactions are contained in the same block on the blockchain which means they were performed on a local machine that didn’t have to wait for even a single confirmation before being able to send on the funds they had just received. That particular piece of information came to us from Martin Harrigan who gave us an incredibly large chart that we couldn’t even publish because it was too wide. At this point, we still believe that MtGox has control of the coins. [46:09]

2011-09-11 15:34:59

A few weeks later, September 11th, 2011, at 15.34 UTC, all of the 50,000 BTC addresses are moved to new 50,000 BTC addresses. At this point, we still believe that MtGox has control of the coins. [46:23]

2011-11-16 05:59:08

The next movement is in November when all but one of the 50,000 BTC addresses created on September 11th, 2011 are inputs to that large 550,000 Bitcoin transaction with two outputs: 500,000 & 50,000

https://blockchain.info/tx/29a3efd3ef04f9153d47a990bd7b048a4b2d213daaa5fb8ed670fb85f13bdbcf

The 50,000 output is still there, sitting unspent. https://blockchain.info/address/1P3S1grZYmcqYDuaEDVDYobJ5Fx85E9fE9

The unincluded 50,000 BTC is broken into two other outputs of 40,000 & 10,000. The 40,000 output is still there, also unspent. https://blockchain.info/address/1cXNTyXj4xPGopfYZNY5xfSM1EPJJvBZV

Now, the vast majority of the 500,000 coins are actually moved over several transactions to known MtGox addresses two days later on the 18th of November. https://blockchain.info/tx/b269bf1b82dae8a61f7f91dbf7a9d807e30963c1ae00ddd95a8faebea6d0a007

Throughout all of this, we believe that these are internal MtGox transactions and that they retain control of the coins. [47:06]

What we infer from this:

1) The custody of the 424,242.42424242 transaction is reasonably established to be Mark Karpeles, CEO of MtGox.

2) All subsequent transactions leading to the 550,000 transaction on Nov 11th are synchronized, suggesting a single controller.

3) The controller of those transactions created two outputs totalling 90,000 that are unspent since Nov of 2011. That person, which we believe to be the MtGox corporate entity or Mark Karpeles personally, should still have control of those funds. [47:46]

If MtGox does indeed have control of that 90,000BTC unspent since 2011, it means the numbers on the MtGox Crisis Strategy draft are flatly wrong and they control considerably more BTC than the document suggests, or something else is afoot.

We have established through several distinct channels that the MtGox Crisis Strategy draft was prepared at the request of MtGox by an outside consulting firm (Mandalah Global), who used financial and BTC balances provided directly by MtGox.

If the MtGox Crisis Strategy draft numbers are accurate, MtGox isn’t counting the coins possibly because they don’t control the keys. Mark Karpeles has said that the coins are “unavailable.” It is possible that the keys were lost since November 2011, or they are not physically accessible for some other reason.

One possible obvious explanation of this would be if one or two users were owed and received these large amounts (one chunk of 40,000 bitcoins and one of 50,000 bitcoins), then never moved them. While we believe this is possible, it seems highly unlikely.

So, as promised, some follow-the-money and lots of speculation. The only person it appears who can tell us what really happened is Mark Karpeles. While ours is a minority report, we believe it provides a more plausible explanation than the originally proffered “750,000BTC were stolen via transaction malleability” theory.

This is not to say transaction malleability didn’t play a role; rather the losses it caused catalyzed the discovery within MtGox itself that what had been perceived as the safest of their safe bitcoins, the ones stored offline for years in large blocks, were in fact trapped inside a transparent, impermeable vault they no longer had the combination to.

Though MtGox’s self-induced vulnerability to transaction malleability may have played a role in its downfall, according to what we’ve seen, we don’t think it could be responsible for the entire Bitcoin loss. What do you think? [49:31]

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CREDITS:

Thanks for listening to Episode 88 of Let’s Talk Bitcoin.

Content for today’s show was provided by Stephanie Murphy, Eric Voorhees, Bloomberg News, Ron Gross, Mark Jeftovic, Trace Mayer, Joel Dietz, Akio Minamoto, Curtis Fenimore, Emily Vaughn and Tonto Kawalski.

This episode was produced and edited by Adam B. Levine and Denise Levine, with additional production by Stephanie Murphy

Music for this episode was provided by Jared Rubens and General Fuzz

Any questions or comments? Email adam@letstalkbitcoin.com.

Have a good one! [50:03]